As the second month of the year has wrapped up, we have seen the continuation of the reddit army and the FOMO (fear of missing out) trade, the ongoing effect of the pandemic and its interaction with economies and financial markets, and the appearance of interest rate risk in both equity and fixed income markets.
*Equity Indices - FTSE Global Indices in CAD, Bonds - Barclays Global Aggregate Canadian Float Adjusted Bond Index based on end-of-day data for the Total Return Index as at market close February 26th, 2021
Volatility was present in the bond markets and spilled over to equity markets as yields have started rising due to the prospect of an economic boom with the belief that pent-up demand will be unlocked as restrictions loosen.
In addition, strong growth expectations also come inflation expectations. Central banks have committed to extended periods of low rates, however, high inflation may force their hands to raise rates in tandem.
Understanding investor psychology can be a very power tool in your investing arsenal to keep your risk within your acceptable levels and to avoid following the herd in engaging in activities such as speculating on meme stocks. We all have a bias to regret aversion bias which can lead us to purchasing certain stocks, simply because we fear we will regret not having that exposure if it were to shoot up in value.
When these instances present themselves, it is important to take a step back and think about the basics. When evaluating opportunities, first consider the risk-return trade off. If the opportunity looks too good to be true, it is likely due to the risk associated with the opportunity. High return potential is typically associated with higher risk. Another important element is to think long-term; this is because fundamentals will dominate in the long-term whereas in the short-term there can be bouts of irrational exuberance. If taking a higher risk make sense in the long run, and you can afford the higher swings, then it might fit in your portfolio. But if we have already set our risk tolerance and are within it, then there is often no need to take added risks – especially when we look at the long-term picture.
The economic outlook remains positive as the vaccination roll out continues globally and as restrictions are lifted and as fiscal stimulus programs continue. We continue to believe that if you stick to the basics, automate your contributions, hold a diversified portfolio and rebalance strategically you will be on the right track to reach your financial goals.
A simple, rules-based approach helps us to avoid the biases we are susceptible to. We have built our portfolio management process on this fundamental idea – control what you can (costs and process) and then stick to the plan. Those who do, will reach their financial goals, one step at a time.